M/s ABC is seeing relaxing its collection efforts. At current its sales are as Rs.40 lakhs, the ACP is here 20 days and variable cost to sales ratio is .8 and bad debts are as .05 percent. Relaxation in collection attempt is exacted to push sales up through Rs. 5 lakhs, raise ACP to 40 days and bad debt ratio to 0.06. ABC tax rate is 40%. Compute the effect of relaxing credit effort on net profit.

Solution:

? BD = bn (S0+ ? S) -b0 S0

= .06 (40+5) - .05 × 40

= 2.7 - 2

=.7 lakhs

? I = ? I = (ACPn - ACP0) [S0/360] + V(ACPn)( ?S/360)

= 40/360 (40 - 20) + 5/360 × 40 × .8

= 20/9 + 4/9

?I = 2.6666667

?NP = [ ?S (1 - V ) - ?BD] (1 - t ) - k?I

= [5 (.2) - .7] (.6) - .12 (2.666667)

= .18 - .32

= -.14 lakhs

As the effect on net profit is negative hence the credit efforts must not be relaxed.